Meaning of information of a precise nature in market abuse clarified by ECJ
Following a recent ECJ decision, the definition of 'inside information' for the purposes of the EU's market abuse regime has been widened.
In Lafonta v Autorité des marches financiers (Case C-628/13) the ECJ held that information of a 'precise nature' for the purposes of Directive 2003/6/EC and article 1(1) of Commission Directive 2003/124/EC was not restricted to information which made it possible to determine the likely direction of a change in price and that the only information that could be regarded as imprecise was information that was vague or general, from which it was impossible to draw a conclusion as regards its possible effect on price.
Mr Lafonta was chairman of Wendel S.A., a French investment company. Wendel concluded "total return swap agreements" (TRSs), financial contracts that transfer both the credit risk and market risk of an underlying asset, with four credit institutions between December 2006 and June 2007. The underlying assets of these TRSs were shares in Saint-Gobain S.A., a French multi-national. However, Wendel did not inform the French financial regulator, the Autorité des marches financiers (AMF), that it had entered the TRSs.
Wendel decided to phase out the TRSs progressively and thereby progressively acquire 17.6% of the share capital of Saint-Gobain between September 2007 and November 2007. It was only during this period that Wendel informed the AMF that it had exceeded thresholds of 5%, 10%, 15% and 20% of Saint-Gobain S.A.'s share capital.
The AMF alleged that Mr Lafonta and Wendel had failed to make public the principal characteristics of the financial operation designed by Wendel to enable it to acquire a significant shareholding in Saint-Gobain's capital and of failing to make that information public by 21 June 2007, at which date all the TRSs had been concluded, and of failing to make public, before Wendel incurred the obligation to report the passing of the 5% threshold, the inside information as to Wendel's implementation of that financial operation. The Penalties Commission of the AMF held these allegations to be well founded and imposed a financial penalty on Wendel and Mr Lafonta of €1.5 million. Mr Lafonta issued proceedings to appeal this penalty which eventually reached the Cour de cassation, France's final court of appeal. Mr Lafonta submitted that the information which was the subject of the AMF's allegations was not sufficiently precise to amount to inside information.
The Court referred the following question to the General Court of the ECJ:
"Must point (1) of article 1 of Directive 2003/6 and article 1(1) of Directive 2003/124 [concerning the definition of inside information] be interpreted as meaning that only information in respect of which it may be determined, with a sufficient degree of probability, that, once it is made public, its potential effect on the prices of the financial instruments concerned will be in a particular direction may constitute inside information?"
Article 1(1) of Directive 2003/6/EC defines inside information as:
"information of a precise nature which has not been made public, relating, directly or indirectly, to one or more issuers of financial instruments or to one or more financial instruments and which, if it were made public, would be likely to have a significant effect on the prices of those financial instruments or on the price of related derivative financial instruments."
Article 1(1) of Commission Directive 2003/124/EC explains that information will be of a 'precise nature' for the purposes of article 1(1) of Directive 2003/6/EC if:
"it indicates a set of circumstances which exists or may reasonably be expected to come into existence or an event which has occurred or may reasonably be expected to do so and if it is specific enough to enable a conclusion to be drawn as to the possible effect of that set of circumstances or event on the prices of financial instruments or related derivative financial instruments."
Previous European case law
The two recent leading ECJ cases on market abuse are Spector Photo Group NV and another v Commissie voor het Bank-Financie- en Assurantiewezen (Case C-45/08) and Geltl v Diamler AG (Case C-19/11).
In Spector and Geltl the Court identified the four elements essential to inside information: (i) its precise nature; (ii) the fact that it has not been made public; (iii) the fact that it relates, directly or indirectly, to one or more issuers of financial instruments or to one or more financial instruments; and (iv) its capacity to have a significant effect on the prices of the financial instruments concerned.
In Geltl the Court had held that information is to be deemed to be of a precise nature if two mutually independent conditions are both satisfied: (i) the information must refer to a set of circumstances which exists or may reasonably be expected to come into existence or an event which has occurred or may reasonably be expected to do so; and (ii) it must be specific enough to enable a conclusion to be drawn as to the possible effect of that set of circumstances or event on the prices of the financial instruments concerned or related derivative financial instruments.
In Geltl the Court held that information in respect of future circumstances and events could amount to precise information if those circumstances or events could reasonably be expected to come into existence but that this did not require proof to be made out to a high probability. Only information concerning circumstances and events the occurrence of which is implausible could not amount to precise information.
The Advocate General's opinion
The Advocate General in Lafonta rejected the restrictive definition of information of a precise nature favoured by Mr Lafonta. He identified a general consensus among the written observations for the Lafonta case submitted by the Member States and the Commission that it was not necessary to be able to anticipate the direction of price changes for information to amount to inside information. He also referred to the opinion of the Advocate General in Geltl whose view was that future events could not reasonably be expected to come to pass only when information was "no more than rumour", or where the information is "so vague as to make it impossible to draw inferences as to the possible effect on trading".
The Advocate General noted that only Mr Lafonta took the view that a breach of the equal treatment of investors would come about only if the insider was able to anticipate the market trend and thereby determine whether to buy or sell securities to make a profit. The Advocate General rejected this interpretation because the text of the Directives did not make specific reference to such a requirement and because such an interpretation would render the Directives "virtually meaningless". He considered that the words "a conclusion … as to the possible effect" in article 1(1) of Commission Directive 2003/124/EC have "a very broad scope" meaning that they could not be "construed narrowly as covering only information which makes it possible to determine the potential direction of a change in the prices of the financial instruments concerned."
The Court's judgment
The Court followed the Advocate General's reasoning and the decision in Geltl to conclude that:
• it is enough that the information be sufficiently exact or specific to constitute a basis on which to assess whether the set of circumstances or the event in question is likely to have a significant effect on the price of the financial instruments to which it relates; and consequently
• the only information excluded from the concept of 'inside information' by virtue of that provision is information that is vague or general, from which it is impossible to draw a conclusion as regards it possible effect on the prices of the financial instruments concerned.
The Court's final observation was that, given the complexity of the financial markets, it was difficult to evaluate the direction of change in financial instruments which might be dependent on a number of factors and that this uncertainty might be used to justify not making certain information public, thereby undermining the objectives of the market abuse regime.
The case is particularly interesting from a UK perspective because of the 2014 decision of the Upper Tribunal in Hannam v Financial Conduct Authority. Mr Hannam was Global Co-Head of UK Capital Markets at JP Morgan Cazenove Limited. On 27 February 2012 the UK's conduct regulator for financial markets, the Financial Conduct Authority (FCA), published a decision notice by which it announced its decision to fine Mr Hannam £450,000 for market abuse (improper disclosure) contrary to section 118(3) Financial Services and Markets Act 2000 (the Act). Mr Hannam challenged the FCA's decision before the Upper Tribunal.
The Upper Tribunal considered the definition of 'inside information' as set out at section 118C of the Act which specified that inside information was information of a 'precise nature' . The Upper Tribunal reviewed European case law, including Geltl, and held that information of a precise nature is information that indicates the direction of movement in the price which would or might occur if the information were made public.
The Court's decision in Lafonta suggests that approach of the Upper Tribunal in Hannan as to the precise nature of inside information may no longer be reflective of the current position in English law. Industry practitioners may wish to revisit any guidance that they have received on inside information as this may define inside information too narrowly exposing them to the risk of regulatory sanction.